Year End Withdrawal Strategies Part I

One of the questions I receive quite often is, ‘when we need money from our investments, how do you determine where we should draw it from’?

It’s a very important question and answer that I’d like to share with you because it ties into a year-end tax strategy that I recommend you pay close attention to.

All other variables held constant for a moment, I’m always looking to ‘free up’ funds in the most tax efficient way, i.e. have you pay the least amount of taxes you’re legally obligated to pay in the process.

And, when all is said and done, I recommend maintaining the same prescribed investment allocation post withdrawal. This is a very important point that you can’t afford to overlook.

Funds Held “Inside” IRAs

If you only have funds held “inside” of IRAs, the only variable is ‘when’ you’ll withdraw the money. For example, one of our Relaxing Retirement members, who has all funds in IRAs, just asked me to free up $60,000 for them to handle a family issue.

He hadn’t given it much thought, but I asked if he had to have ALL $60,000 today, or could get $30,000 right now and wait until January 2nd for the second $30,000 installment?

I asked because I know where all of their taxable income comes from each year and withdrawing $60,000 (or more to cover taxes) from their IRA in one year would cause a chunk of that withdrawal to be taxed at a higher marginal tax bracket.

If they were able to withdraw half in 2013 and the other half in January 2014 instead of all of it in 2013, that would save them a minimum of $3,000 in federal income taxes in the process.

I call this strategy “Income Tax Straddling”.

As it turned out, it made no difference, so they were able to save that $3,000 which will now go toward their upcoming vacation!

Sound simple, right.

Home Equity Line of Credit

Had this couple needed all of the money in 2013, I may have recommended that they withdraw half from their IRAs in 2013 and half from a home equity line of credit.

Then, in early 2014, they could withdraw the second half from IRAs to pay off the line of credit. This would have the same effect as my first recommendation,i.e. Income Tax Straddling.

Had the funds only been needed on a short term basis, I may very well have recommended utilizing a home equity line of credit instead of an investment withdrawal, especially during times like these when interest rates are so low.

Saving $3,000 is something that’s possible for you, but only if you ask the right questions and you have all the necessary information in front of you.

Paying more taxes than you’re legally obligated to pay is not an act of patriotism. It’s laziness!

Next week, we’re going to outline how to free up the cash you need in the most tax efficient manner when withdrawing from Non-IRA accounts.

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